The settlement of securities trades—i.e., trades involving stocks, bonds and other forms of equity and debt—is a process that involves different participants such as institutional investors, broker-dealers, agents, and interested parties. An institutional investor (“institution”) places a trade order with a broker-dealer to make a securities trade on behalf of itself or one of its customers. An institution is generally an investment manager, mutual fund, investment department of an insurance company, or trust department of a bank that has been granted discretionary trading authority by the institution's customer (e.g. a pension plan, corporation or endowment fund). A broker-dealer (“broker”) executes buy and sell orders for the institution and receives or delivers securities and funds to settle the trade. In certain instances, a clearing broker can act as an agent for the broker in the settlement process and be responsible for receiving or delivering securities and funds on the broker's behalf. An agent (“agent”) acts as an agent for the institution in the settlement process and is responsible for receiving or delivering securities and funds on behalf of the institution or its customer. In many instances, a clearing agent (generally, a custodian bank) acts for the agent in the settlement process and is responsible for receiving or delivering securities and funds on behalf of the agent. For securities settling outside of the “home market”, the clearing agent is often referred to as a “global custodian.” In some cases, agents and clearing agents act through other agents or custodians in order to settle a trade. An agent or custodian that acts for a clearing agent is considered to be a “subcustodian.” An interested party (“interested party”) is any entity designated by the institution as interested in the transaction, such as a correspondent bank or plan sponsor. Each participant in the settlement process (other than an interested party) must, among other things, communicate information about the trade to and from the other participants and arrange for the transfer of funds and securities to settle the trade.
The explosive growth of the global securities markets places additional pressure on the settlement participants to ensure that trade settlements proceed with speed and accuracy. Today, trading of securities has reached unprecedented volumes. The increasing volume and speed with which securities are traded has necessitated that governing bodies place standards on financial institutions and other parties to settle trade accounts within mandated time periods. Over the years the mandated time periods for trade settlements have been shortened. In 1995, the Securities and Exchange Commission (“SEC”) mandated that securities trades must be settled within three business days of the trade date, a limit known as “T+3”. Previously, trades had to be settled within five business days of the trade, or “T+5”. At some point in the future this trading period may well decrease to one business day settlement, “T+1,” or even same day settlement, “T+0”. There is a need for systems that can facilitate rapid trade settlement communication with great accuracy in such shortened time periods.
Currently, trade settlement involves a set of communications by which the parties to the trade send and receive a series of messages that lead to settlement. Institutions typically trade in large block amounts. The securities from a block trade are then allocated to different customer accounts by an institution, with each account often involving different agents and interested parties. Institutions can also place a single trade order for an individual customer.
When a trade is executed by a broker (on a trade order placed by an institution, either for a block or single trade order), current practice directs the broker to report to the institution by way of a communication, such as a trade confirmation (which brokers use for single trades to permit the trade to be immediately affirmed) or a notice of order execution (“NOE”) (which brokers use to report the execution of the trades which cannot be yet confirmed). If the trade is a block trade to be allocated among different customer accounts, for example, the trade cannot be confirmed until the broker receives information to allocate the trade among the various customer accounts. Brokers may have to execute multiple trades to fill one order, resulting in multiple NOE's being sent to the institution for a particular trade order. For trade orders covered by multiple NOE's, the broker reports cumulative information about the trade order (such as the average price per share) and information about the individual trade executed within the same NOE.
Upon the receipt of an NOE that completes an order, the institution returns a communication which conveys to the broker all trade allocations needed to complete the settlement process. If the broker agrees with the allocation information, the broker then issues a trade confirmation. To issue a trade confirmation to the institution, the broker includes information which is needed to generate a legal confirmation (as required for example by SEC Rule 10b-10 under the Securities and Exchange Act of 1934). This confirmation is typically communicated to the institution, the institution's agent and a number of interested parties, such as the underlying customer or an entity providing performance measurement for the underlying customer.
Upon receiving the broker trade confirmation, the institution continues the settlement process with a communication to affirm the trade. The affirmation step can be completed by the institution, or the power to affirm can be delegated by it to its agent or an interested party. To affirm, the institution receives the trade confirmation communication and then compares it to data that is stored in its own records. If in agreement, the institution sends an affirmation and each party named in the confirmation typically receives the affirmed confirmation, which includes settlement instructions that agents and brokers use to settle the trade.
The process of settlement communications currently employed—NOE's, allocation instructions sent by the institution, confirmations and affirmations—ensures a high level of accuracy within the trade settlement procedure. The communications sent back and forth enable each settlement party to check records and confirm the existence of the trade and settlement details before the trade is settled.
Maintaining data accuracy and reliability in trade settlement is crucial. The system of communications—NOE's, allocation instructions, confirmations, and affirmations—establishes a level of redundancy which helps to ensure accuracy and party agreement. However, this system requires sufficient time for the parties to review and verify the incoming communications and in practice has created difficulty for the settlement parties in their meeting the T+3 trade settlement requirement. Even with the widespread use of computers, the settlement parties execute the sequence of communications using a disparate collection of telephone calls, telexes, cable and wire transmissions, faxes and hard-copy messages. This process takes considerable time to complete its function. Any new system that would offer advantages in speed over the generally used system of communications must still ensure accuracy and reliability because the cost of an incorrect or failed trade settlement is high. For any failed trade, the parties must find and rectify the reason for the failure.
Computer systems have been developed for other areas of securities trading, such as those described in U.S. Pat. Nos. 4,346,442, 4,376,978 and 4,774,663 for aspects of a cash management system for securities brokerage firm, U.S. Pat. No. 4,949,248 for aspects of a network for sharing information and programs, and U.S. Pat. Nos. 4,674,044, 4,823,265 and 5,101,353 which are directed to systems for trade execution. Computer technology has also been applied to trade settlement. However, typically all such systems maintain the prior art sequence of communications between the parties in terms of NOE's, allocation instructions, confirmations and affirmations. One system known as “Alert” and developed by Audex Systems of Wellesley, Mass. is designed to facilitate the flow of information in the communications between the institution and broker. The Alert system maintains a centralized database of institution delivery instructions (instructions for the delivery of funds or securities that the institution applies for each of its customer accounts). When the institution communicates a trade allocation instruction, the broker can access information in the central database in its preparation of the confirmation. The Alert system, however, does not change the sequence of communications between broker, institution, agents and interested parties.
U.S. Pat. No. 5,497,317, assigned to Thomson Trading Services, Inc. also follows the sequence of NOE, institution instruction, confirmation and affirmation communications. It provides a database configuration to facilitate those communications, but takes no steps to shorten the number of communications needed to settle a trade.
The Depository Trust Company (“DTC”) developed a system known as the Institutional Delivery (“ID”) System in the early 1970's. The ID System provides a multi-step, post-trade process that is based on the system of NOE, institution allocation instruction, confirmation and affirmation communications, but provides a central computer hub which collects information and generates the confirmation communication. With the ID System, a broker can send an NOE to an institution after executing each buy/sell order. Upon receipt of the NOE, the institution returns an allocation instruction. Upon receipt of the allocation instruction, the broker submits to the ID System trade detail information (such as issue, quantity, price and date). The ID System combines trade information with information from other sources to issue a confirmation which gives trade details, settlement information and other required data. The ID System makes that confirmation available to the institution, the broker, the agent and any other interested parties to the trade. The institution then acknowledges or affirms the confirmation by sending a message to the ID System. In a final step of the post-trade settlement process, the ID System sends an affirmed confirmation to each party. Upon the receipt of the affirmation confirmation, the trade can settle. The complete confirmation process, in which the broker transmits trade data and the ID System generates a confirmation, can take as many as five distinct communications.
DTC has recently implemented a computer process that eliminates the affirmation step in the trade confirmation process while maintaining the reliability previously achieved by the earlier NOE, allocation instruction, confirmation and affirmation communications systems. Instead of passing the broker confirmation to the institution and waiting for an institution's affirmation, the more current ID System matches trade data received from the broker for inclusion in a confirmation with institution instructions received from the institution, e.g., instructions input after NOE or at the time that the trade occurred. If the input from broker and institution agree, the system produces a “matched confirmation” which can, if the institution is also the affirming party, replace the affirmation by producing a matched affirm confirmation.
Further streamlining of the above communication steps involved in the trade settlement process would facilitate more rapid trade settlement without sacrificing accuracy. However, existing systems rely on the redundant exchange of communications to verify the information exchanged in trade settlement.
It would be an advance in the field if a new system could be developed to further reduce data redundancy while still providing sufficient data to settle the trade reliably and accurately. What is desired, therefore, is a system for improving the speed, efficiency, security and control of the current post-trade communication processing and settlement systems by more advanced matching techniques.